Day 2: Weblights

More “weblights” from company presentations over the past 24 hours. Key takeaways: back to school ending better than it began but still very promotional (especially denim), and not one CEO or management team is expecting the economy to improve over the next 6-12 months. On the flip side, not one management team expressed that the macro backdrop is going to get worse. Unfortunately, managing inventory, growth, and expenses for the status quo backdrop macro is not an easy task.

On the unit growth topic, retailers remain reserved with their development pipelines, preferring to almost unanimously invest in e-commerce infrastructure and/or internal systems rather than speculate on real estate acquisition. Dollar Tree and Ross Stores stand out as the two companies with bullish outlooks on unit growth, with both looking to add 7% square footage over the foreseeable future.

More callouts below:

Radioshack noted that the benefits of selling the iPhone are not really in the economics of a unit sale itself, but rather in the traffic and demographic that the product attracts. In order to maximize the iPhone business, RSH must sell additional items in the basket (mainly accessories at higher margins).

ANF noted that both cost pressures and the competitive environment are larger than expected sixth months ago, making gross margin expansion in 2010 unlikely. Management believes they will be able to see some expansion beginning in 2011.

ANF’s CFO suggested that inventories will remain high through 3Q, possibly ending even higher than the 47% increase in cost at the end of the second quarter. Management believes that company was under-inventoried over the of the back half of ’09, which ultimately hurt sales.

HD believes that e-commerce is “critical” to the company over the next decade or so, as consumers expect an interconnected retail experience. Currently, 70+% of HD customers have researched a product or project before they enter the HD retail store. Management also believes the real-time dialogue that can exist with customers as a result of the internet (i.e. blogs, comments, Twitter) allows the company to indentify and target concerns before they turn into bigger negative events.

DLTR reminded investors that the company employs an extremely dynamic and flexible merchandising model, which aims to find the best “dollar” items available at any time for its customers. Approximately 50% of the company’s merchandise changes each year and the store is not merchandised via a central planogram.

WMT reiterated that it prefers to sell national brands over private label because these items tend to showcase Wal-Mart’s pricing advantage vs. the competition.

WMT’s recently appointed CEO of U.S hinted that the company’s growth plans will include some newer formats aimed at complimenting the supercenter. More details are expected at the company’s analyst day in October. Could this be the ramp in Neighborhood Markets or perhaps an urban format?

WMT noted that it is testing a site-to-pickup program in which a customer can order an item online and have it ready for pickup at a local Fedex store (Kinko’s). This is definitely an interesting way to leverage both the logistics of Fedex and the consumer’s desire for convenience. Shipping is free in the test.

When asked about WMT’s apparel strategy, the new CEO responded with “I'm not going to be the second, third, fourth, fifth or sixth person to stand up here and tell you they are going to fix our apparel business, but we are going to work as hard as we can to fix our apparel business. I think we know what to do. Andy is somebody who has had success in apparel, and both men's and women's.” Clearly management is backing off from any timeline for improvement, despite recent comments that 4Q should show signs of better results.

ROST noted that the single biggest driver to further expanding margins beyond peak levels is sales. Without sales growth, management believes it can maintain the gains they have achieved via substantial inventory reductions and more efficient operations. In other words, it’s all about sales from here on out.

Nordstrom is not planning on any negative impact from potential inflation next year, but rather believes better inventory turns, reduced markdowns, and having the right goods mitigates any minor moves upward in product costs.

One of the few rare examples of “trading up” is occurring within the pet space at PetsMart. The company is seeing consumers trade up in food and wellness categories as well as hardgoods, driven in part by recent merchandising initiatives including Martha Stewart. The company also noted that the vitamin/wellness trend that has been a big growth area for humans is now beginning to trickle into the pet space. Management believes pet vitamins and wellness will become a meaningful category over the next several years and as a result, the company is allocating resources towards this growth area.

PETM noted that for the first time in 15 years, the number of households that have pets dropped from 62% to 61%. Management believes job growth is key to an improving housing situation, which in turn drives pet ownership.

PSUN’s CEO noted that promotional levels in the denim category in July and August were at levels they haven’t seen before. The promotional environment remains a key wildcard in the company’s ability to expand margins in the near term.

Eric Levine

Director

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09/16/10 09:23 AM EDT

R3: RL, TNF, SKS, and Fashion Trucks

R3: REQUIRED RETAIL READING

September 16, 2010

For first time in a while we’re seeing a handful of news items centered on growth and new concepts. However, none of them are in a conventional sense. Keep an eye out for another British invasion as well as mobile stores (in the form of trucks).

RESEARCH ANECDOTES

- With smartphones now representing 25% of cellphone ownership, mobile advertising is quickly becoming the fastest growth vehicle in the advertising industry. As a result, mobile advertising is expected to account for about 20% of online ad budgets next year.

- Keep an eye on U.S expansion by British retailer, All Saints. The company which is centered around a dark, vintage aesthetic has plans to open 50 U.S. stores over the next 5 years. There are currently 6 domestic locations. In the U.K. the retailer has amassed over $200 million in sales in just over 4 years.

- First it was a food truck revolution and now it maybe a fashion truck revolution. In accordance with LA’s fashion week, a handful of designers and brands are setting up mobile stores. These trucks are then tied in to Twitter or other mobile-based location tools to alert customers where they are parked at any particular time. While this trend is still too small to matter, it certainly puts a twist on a traditional pop-up shop and calls “rent” into question. Furthermore, it seems like this may be the ultimate “store” for testing new products or new markets.

OUR TAKE ON OVERNIGHT NEWS

RL and TNF Score Victory Against Chinese Cybersquatters - Polo Ralph Lauren Corp. and VF Corp.’s The North Face unit scored a major victory against Chinese cybersquatters, but collecting the damages may be another matter entirely. A court in the Southern District of New York awarded the brands $78 mm, which is believed to be the highest sum of damages ever awarded in an Internet counterfeiting case. Initially filed in March, the lawsuit pitted the apparel brands against a network of more than 130 Chinese Web sites selling counterfeit goods to U.S. customers through up to 6,500 domain names such as laurenpolo.com and officialnorthface.com. <wwd.com/business-news>

Hedgeye Retail’s Take:While not often talked about, counterfeiting remains a huge challenge for these brands and others, especially within the Chinese market. Interestingly, the Chinese government has recently been more sympathetic to Western brands in helping to crack down on the problem.

Dolce and Gabban Unveil New Retail Concept - Domenico Dolce and Stefano Gabbana are about to unveil a groundbreaking new retail concept — and this time, the Milanese fashion duo isn’t shy about highlighting the work of other designers. This weekend, Dolce & Gabbana will open Spiga2, a multibrand boutique that is curated by Dolce and Gabbana and features the work of young, emerging designers from around the world. The store is located at Milan’s Via della Spiga 2, which was previously an accessories-only store for the brand. Dolce and Gabbana handpicked the pieces they are planning to sell in the store, and the first run of designers includes Behnaz Sarafpour, Sophie Theallet, Yigal Azrouël, Fannie Schiavoni, Erkan Coruh, Peter Jensen and Heather Williams. <wwd.com/retail-news>

Hedgeye Retail’s Take:The focus on emerging designers remains high, as it seems many larger brands are searching for their next big growth vehicle. Given the cost to start a fashion brand, it makes sense for lesser established designers to partner with those that can help expand reach and broaden distribution and awareness.

Footwear News Teams Up with SKS - Footwear News has selected this seasons’ hottest heels — and starting now, consumers can vote for the sexiest pair. A special limited-edition magazine will launch today in select Saks Fifth Avenue stores, as will the “Sexy Shoes” contest. Voting is open to the public and will take place online, as well as at the 10022-SHOE boutique in the flagship Saks Fifth Avenue store in New York. Top designers featured in the contest include Christian Louboutin, Manolo Blahnik, Jimmy Choo, Chanel, Miu Miu and Dolce & Gabbana, among other big names.

Hedgeye Retail’s Take:In other words, the women’s fashion footwear department at Saks has turned itself into a NCAA-style bracket. Yet another example however of the democratization of fashion. Online campaigns such as this one continue to encourage consumers to “vote” for what they like, which in theory should help retailers and brands better align themselves with what the market is looking for.

New York Retailers Benefit from Fashion's Night Out - New York retailers said they were ecstatic over the boost they received from the second-annual Fashion’s Night Out. For brand Ralph Lauren, the citywide event that took place last Friday, was a major improvement from the previous year. Stuart Weitzman, who spent FNO making appearances at his Columbus Circle and Madison Avenue locations, said the night drew more consumers into his stores than last year’s event. The designer added that being open until 11 p.m. instead of closing at the normal 6 p.m. time helped add to sales. The 2010 event equated to more than just extra foot traffic, it doubled some retail stores best sales days yet. <wwd.com/footwear-news>

Hedgeye Retail’s Take:Not only did it seem like this year’s event was better marketed, it also compares against one of the more difficult years for Fashion Week. If anyone was in NYC this week, then it was pretty hard to ignore all things fashion.

D6 Sports Licenses Action Sports Brands - D6 Sports announced its licensing acquisitions of World Industries, Zoo York, Mark Ecko, Bratz, Moxie Girlz, BFC Ink and Skelanimals. Along with the Airwalk, TapouT, Jester and No Rules action sports lines it already holds, D6 Sports said its poised to become the leading provider of action sports licensed products to the sporting goods channel. <sportsonesource.com>

Hedgeye Retail’s Take:With this stable of growing brands, we wonder how long before Iconix takes a hard look at D6. OR, maybe they already have.

Theory Looking to Buy Proenza Schouler Brand - According to several sources, Theory’s Andrew Rosen is looking to buy the Proenza Schouler brand from European private equity fund Permira. The rumor first surfaced in the early spring, but Rosen, Theory’s co-founder and president, denied it at the time. However, talk of a deal resurfaced this week, and sources are confident Rosen and the Proenza Schouler designers are up to something this time. <wwd.com/business-news>

Hedgeye Retail’s Take:Recall that Proenza changed hands as a result of its parent, Valentino, also landing in the hands of Permira. The brand has long been rumored to be for sale, although this time the potential buyer seems more feasible than prior whispers.

Coalition Asks Congress To Aide in Lower Shipping Rates - A coalition of importer, exporter and logistics associations is asking Congress to help change the law governing antitrust immunity for international ocean carriers, arguing that shipping rates should be set by market forces and not foreign-based companies “acting in concert.” Retailers, importers and exporters argue that carriers, particularly in the U.S. westbound and eastbound Pacific trade routes, charge identical or similar rates, break contracts to enact surcharges, bump containers off ships and refuse to load cargo without additional compensation. <wwd.com/business-news>

Hedgeye Retail’s Take:A fair request indeed as price fixing rarely benefits the customer and is typically immune to the underlying supply/demand forces, but there are no quick fixes here. Don’t expect these efforts, which have been cited regularly as a key inflationary factor in the near-term to save retailer’s margins in the 2H.

The Game of Online Free Shipping - Although free shipping of one form or another has become common on e-commerce sites, merchants must decide whether it really improves business or becomes just another cost to bear. Several merchants advise testing what works best with different product categories and pricing strategies—for example, offering free standard shipping only for light-weight but high-margin products, or setting a minimum order value. RestockIt.com, an online-only retailer of office and restaurant supplies has experienced conversion rate hikes of 20% to 30% through free shipping offers. RestockIt.com has found free-shipping works best by offering it as standard fare on more than 100,000 of its higher-margin products. <internetretailer.com>

Hedgeye Retail’s Take:The cost of shipping heavier and therefore more expensive items is not as important in retail than some other industries, perhaps aside sporting goods/exercise equipment, but as we highlighted in our August e-commerce Black Book and have included below, there is no question free shipping is a critical factor in the consumer’s purchasing decision tree.

Bangladesh: New Fiscal Package for Garment Exporters - Funded by the Export Development Fund, Bangladesh is offering a second stimulus package for ready-made garment exporters, which includes offering $10 million loans as well as continuing the five-percent cash incentive programme on the total value of exports. <fashionnetasia.com>

Hedgeye Retail’s Take:A 5% incentive program when new minimum wages remain at unacceptably low levels at $43 versus the $75 proposed, is likely to do little to drive productivity in a country with a disenfranchised workforce.

Pakistan: Discussion Over Trade Concessions with the EU - After a two-day meeting with the European Union foreign ministers in Brussels last week, Pakistan will be granted extraordinary trade concessions, which are set to bolster flood-devastated nation and help Islamabad tackle extremism. <fashionnetasia.com>

Hedgeye Retail’s Take:With floods impacting nearly 15% of the Pakistani population, the #4 global producer of cotton is going to require continued relief. This issue will continue to weigh on prices near-to-intermediate term.

Cost of Cotton Production Rises - The International Cotton Advisory Committee (ICAC) Secretariat undertakes a survey of the cost of cotton production at three-year intervals. During the last three years, the cost of production of seedcotton increased to US$0.43 per kilogram. The cost of production of cotton lint (net of land rent and the value of seed) increased to $1.22 per kilogram, a 17% increase from the average cost estimated in 2006/07. Lower yields in 2009/10 compared with 2006/07 were the main factor resulting in the rise in production costs. The net cost of production averaged about $1.15 per kilogram in Asia and West Africa. The Fruitful Rim region of the US, followed by Colombia and China, had the highest costs of production. India, whether irrigated or rainfed, had the lowest production costs for cotton because of recent increases in yields and high values for seed. The most recent survey was completed this month using data from 2009/10. Thirty-four countries participated in the latest survey, providing 63 entries, including rainfed and irrigated regions and regions within countries. <fashionnetasia.com>

INITIAL JOBLESS CLAIMS DOWN A HAIR

Initial Claims

Initial claims fell 3k last week to 450k (falling 1k net of the revision). Rolling claims came in at 465k, a decline of 13.5k over the previous week. Reported claims are now at the low end of the YTD range of 450-470k that the series has occupied for all of 2010. While the series is improving in the last few weeks, the reality is that claims still need to be 50-75k lower than they are now before unemployment will start to improve.

In the table below, we chart US equity correlations with Initial Claims, the Dollar Index, and US 10Y Treasury yields on a weekly basis going back 3 months, 1 year, and 3 years.

September will be the final month for meaningful census drag on employment in the economy.

Initial claims fell 3k last week to 450k (falling 1k net of the revision). Rolling claims came in at 465k, a decline of 13.5k over the previous week. Reported claims are now at the low end of the YTD range of 450-470k that the series has occupied for all of 2010. While the series is improving in the last few weeks, the reality is that claims still need to be 50-75k lower than they are now before unemployment will start to improve.

Yield Curve

The following chart shows the yield curve (2-10 spread) by quarter with the chart below that showing the sequential change. The 2-10 spread (a good proxy for industry NIM) has been compressing for the past two quarters. Yesterday’s closing value of 224 bps is up from 214 bps last week.

The table below shows the stock performance of each Financial subsector over four durations.

September will be the final month for meaningful census drag on employment in the economy.

Joshua Steiner, CFA

Allison Kaptur

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09/16/10 08:53 AM EDT

THE DAILY OUTLOOK

TODAY’S S&P 500 SET-UP - September 16, 2010

As we look at today’s set up for the S&P 500, the range is 24 points or -1.61% downside to 1107 and 0.53% upside to 1131. Equity futures are trading below fair after markets this morning. Yesterday, U.S. equities succeeded in reversing earlier declines yesterday to close up on the day as investors shrugged off a disappointing NY Empire State manufacturing reading.

Regional markets closed mostly lower in the wake of yesterday’s market intervention to weaken the yen. Japan rose in the morning, but gave up the gains on afternoon declines in commodity stocks. China fell again amid concerns tighter bank capital requirements may subdue credit growth.

MPEL will need to pay an extra 257 million patacas in land premium after the Macau government revised the land grant for CoD. The fee is on top of the 842 million patacas premium payable under Melco Crown's 2008 land grant. It was revised to allow a bigger, yet-to-be-developed apartment-hotel tower of 140,000 square metres, up from 106,000 sq.metres.

MACAU'S HOUSE OF DANCING WATER WILL BE PROFITABLE "IN A FEW YEARS TIME": LAWRENCE HO macaubusiness.com, SCMP

CEO Lawrence Ho says HDW will be profitable in a "few years time". Ho added that the HDW event is helping the company gain brand recognition. HDW is set to open to the public tomorrow, after a special VIP preview scheduled for today.

MACAU'S TOURISM SECTOR WILL NEED 10,000 NEW WORKERS NEXT YEAR: GOVERNMENT macaubusiness.com

The director of the Macau Government Tourist Office, João Manuel Costa Antunes, says the local tourism industry will need 10,000 new workers in 2011 if all the projects in the pipeline open as scheduled.

IMPORTED WORKERS ON THE RISE macaubusiness.com

The number of imported workers has increased for the second month in a row, after almost two years of decline. In July, the total number of non-resident workers in Macau stood at 72,209, slightly up by 67 people in comparison with the previous month.

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Daily Trading Ranges

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